What to Do if You Can't Make Payroll
Cash flow — essentially money moving in and out of your business—can be challenging. Even though you're bringing in sales, you may not have collected on invoices, leaving you short of cash on hand to pay your bills -- including payroll. What options do you have?
Finding cash in a crunch
Owners with a bank account short of the money needed to make payroll must look for cash quickly. Start by talking to your team of financial professionals before determining a course of action, but here are some ideas to consider:
- Borrow from your 401(k) plan. If the plan allows for borrowing, an owner can borrow up to 50% of vested benefits or $50,000, whichever is less (assuming the account balance is more than $20,000). These loans are easy to arrange with the plan administrator (who may be the business owner) and interest rates typically are very low.
- Take a business loan. While SBA loans and other commercial loan products may take months to close, there are some online options to obtain cash quicker, such as Biz2Credit. Other types of business loans that are quick to arrange include merchant cash advances and invoice financing (factoring). Beware of some online options, because small businesses are often targets of predatory lenders.
- Tap into your home equity. Personal resources of an owner, such as a home equity line of credit, can be a backstop for business needs. If the line is in place, all that's needed is to write a check to the business as a draw on the line. If there is no existing line, it may take some time to close on this type of mortgage on your home, but check with your lender.
The option you use depends on various factors, such as how quickly you can get the money, what you'll pay for the loan, the impact on retirement savings, risk to home ownership, and more.
Prioritizing your obligations
When the money on hand is insufficient to pay all of your bills, you must prioritize. Who will you pay now and who can wait? When it comes to payroll, two costs are priority:
- Employee paychecks. Under the Fair Labor Standards Act, employers are obligated to give employees their paychecks; they cannot withhold them. Similar state labor laws require employers to pay employees promptly.
- Payroll taxes. These taxes fall into two categories: employer taxes and trust fund taxes (employees' income tax withholding and their share of FICA). Employers delinquent on their employment taxes (the employer share of FICA, FUTA taxes, and state unemployment taxes) are subject to interest and penalties. Owners who fail to pay trust fund taxes can be 100% liable for the money.
To meet payroll, prioritize your other obligations:
- Rent and utilities. You can't stay in business if the lights are turned off and your internet is down; like payroll, these expenses are a priority.
- Vendors and suppliers. You need goods on-hand for sale to customers, or materials to make the goods you sell. Reach out to your vendors and suppliers to seek more favorable payment terms. For example, a supplier may be willing to wait a little longer for payment because you've been a loyal customer for a long time.
- Insurance. Don't overlook premium payments for essential coverage, such as your Business Owner Policy (BOP) and car insurance; you can't afford the exposure to basic business risks. Also, you must pay workers compensation and health insurance that you offer to your staff. Other coverage, such as errors and omissions policies, may have to wait.
- Accounts payable and credit card debt. Depending on the debt, you may be able to delay payment (talk to the party you owe money to and ask for an extension of time to pay it off). Credit card debt gives you flexibility in timing repayment. Of course, there's likely a significant interest cost for doing this, but it can help you get through a cash crunch.
- Nonessentials. During a cash flow emergency, delay paying for nonessentials, such as advertising and marketing, dues and memberships, subscriptions, and any nonessential repairs.
Don't be caught in the same cash crunch in the future. Address the root problems that put you in the fix, such as high overhead, lavish spending on travel and expenses and excessive advertising, low prices, and poor collections policies. Create an emergency fund by setting aside money that the business can use when cash flow is slow. Work with your CPA or financial advisor to review your cash flow in order to get a handle on it so you can make needed changes.
Disclaimer: The information in these materials should not be considered legal or accounting advice and it should not substitute for legal, accounting and other professional advice where the facts and the circumstances warrant. It is provided for informational purposes only. If you require legal or accounting advice or need other professional assistance, you should always consult your licensed attorney, accountant or other tax professional to discuss your particular facts, circumstances and business needs.